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The following is a viewpoint by Ryan Katofsky, vice president, industry analysis, at national business group Advanced Energy Economy. This is the third in a 7-part series from AEE that addresses how the power sector can successfully transition to a 21st Century Electricity System.

Energy efficiency (EE), broadly defined, means using less energy to provide the same, or often superior, energy services. EE is most commonly thought of as technologies that reduce energy use relative to traditional technologies, such as LED lighting and high efficiency appliances and heating and cooling equipment.

But today, EE also includes the use of sophisticated energy management systems, internet-connected thermostats, and data analytics. Many benefits come from EE technologies and practices, including cost savings for customers, consumer empowerment and engagement, improved facility operations and building energy system reliability, enhanced grid performance, reductions in electricity bills, and job creation.

EE is widely recognized as the lowest cost resource for meeting electricity needs. Strong EE polices and investments help keep electricity bills low for all by reducing the need for new and expensive generating assets, as well as new transmission and distribution infrastructure. In 2016, The U.S. building efficiency sector accounted for nearly $70 billion in revenue and there were about 2.2 million U.S. jobs associated with energy efficiency.

The EE market has undergone significant changes in response to developments in technologies, markets, and public policies. This has largely been driven by the influx of connected devices, deployment of advanced metering functionality and the “internet of things,” which have increased the ability of utilities, third parties, and customers to remotely access data and act upon it. In addition, there continue to be advances in EE technologies and new innovative tools that leverage this new data-rich environment to provide personalized and actionable information about energy consumption.

Despite its many benefits, EE faces numerous barriers to achieving its full potential. To overcome these barriers, states implement policies such as energy efficiency resource standards (EERS), revenue decoupling, and stricter building codes and standards. Utility integrated resource plans (IRPs) that take into consideration demand-side technologies, as well as robust EE potential studies, are also important for achieving high levels of energy savings.

In addition, the increasing sophistication of EE products and services opens up the possibility of innovative solutions and approaches that value EE as a resource on par with traditional, supply-side options. Such market-driven EE, in its various forms, can serve as an important component of the electric grid of the future, and be a complement to more traditional EE policies.

A variety of delivery mechanisms exist for EE, tailored to the needs of different customer types. So-called mass-market customers (residential and small commercial) are typically best served directly by utility programs, whereas free-market mechanisms by industry and energy service companies (ESCOs), as well as utilities, serve larger commercial and industrial customers.

Utility-sponsored programs are typically funded by public purpose customer surcharges on electric bills. Because they must pass various benefit-cost tests, if these programs are not cost-effective, state utility commissions will not authorize them.

Lawrence Berkeley National Laboratory estimates the U.S. average “total cost of saved energy” for customer-funded utility EE programs at $46/MWh, based on an analysis of programs in 20 states over a five-year period. And because some of these costs are borne by participants, the average costs to the program administrator (usually the utility) are even less, at just over $20/MWh.

While utilities typically serve as the program administrators, program delivery is usually done by third parties, either acting on behalf of the utilities as contracted agents, or in delivering products and services directly to participating customers via the competitive marketplace. This combination has proved very effective at delivering value for all customers – participants and non-participants alike – while achieving state policy objectives.

Outside of traditional utility programs, various market constructs provide opportunities for cost-effective energy efficiency delivery, including Pay for Performance (P4P) and other industry-led innovations. This includes performance contracting offered by ESCOs, which primarily service municipalities, universities, schools, and hospitals – collectively termed the “MUSH” market.

For performance contracting, ESCOs evaluate and install a package of EE measures for their customers. Often, those installations have little or no up-front cost to the customer, as ESCOs recover their costs through the energy savings generated. In fact, if the project does not generate the savings forecasted, ESCOs pay the customer the difference.

In other P4P models, there are two primary ways in which energy efficiency savings are paid: standard-offer programs, which set a price for each unit of energy saved, and bidding programs, in which implementers or customers compete for contracts that specify an amount of energy savings to be achieved, and pay the price offered by bidders for savings as they occur.

P4P has the potential to grow as more granular data about customer energy use becomes available, allowing for more accurate measurement of actual savings, as opposed to the deemed savings approaches that have been used in the past. While more common with commercial and industrial customers, this approach has the potential to expand to smaller customers via the participation of third-party aggregators. For example, smart meter data can be used for energy savings calculations that form the basis for P4P procurements.

Utilities can also issue EE requests for offers (RFO) to the competitive market to solve an identified need. Pacific Gas & Electric in California is issuing RFOs for EE projects and other greenhouse gas-free energy resources to replace the generation from the Diablo Canyon nuclear power plant, which is set to retire in 2025. The first round of RFOs will be for EE only.

As the electricity sector continues to evolve, energy efficiency will play an increasingly important role in a modern electricity system. Policymakers and regulators have a range of established and emerging practices to ensure that markets for EE continue to grow and make the most out of innovative technologies and services.

Taking advantage of the latest technology and data analytics, in particular, opens up possibilities for new EE procurement models that can continue to drive cost-effective EE deployment, save money for customers, and improve the electric power system for all.

Ryan Katofsky is vice president of industry analysis at national business group Advanced Energy Economy. AEE’s issue brief, Energy Efficiency as a Resource: The Power of Getting More from Less, as well as six other related issue briefs, are available for download at http://info.aee.net/21ces-issue-briefs.